Demand moderation temporary: We would have been concerned if demand moderation at TCS seen in Q2/Q3 was due to fundamental factors, but it appears to be more macro linked or one-off in nature and restricted to small segments like energy and Diligenta business (3% of revenue).
The management indicated that all other segments, especially the US and Latam/India, are seeing good demand traction, with even challenged segments like retail likely to improve going forward. This reinforces our belief that nothing has changed fundamentally at TCS and it remains well positioned to benefit from both cost efficiency and discretionary demand. We expect TCS to record USD revenue CAGR (compound annual growth rate) of 14% and EPS (earnings per share) CAGR of 15% over FY15-17F; we retain Buy. HCLT/CTSH are our top buys in the sector.
Progressively improving demand traction: TCS reported constant currency (CC) revenue growth of 2.5% quarter-on-quarter and Ebit (earnings before interest and taxes) margins were up 20 basis points bps 27%, in line with our expectations. Weak spots in the result were: (i) weakness in the UK, and retail, energy and utilities segments; and (ii) headcount addition of 1.6% q-o-q (with limited scope on utilisations). However, management indications of: (i) US, Latam and India likely being better than last year, (ii) Europe growth of 6.6% q-o-q in CC terms and UK (ex of Diligenta) seeing better growth going forward, and (iii) overall positive commentary on order book, were heartening.
TP rises to R2,800 on roll-forward: We build 100 bp cross currency impacts in Q4 and reset our USD-INR assumption to 62 (vs. 61 earlier) and look for USD revenue CAGR of 14%, stable Ebit margins at ~27% and EPS CAGR of 15% over FY15-17F (forecast). Our TP (target price) rises to R2,800 (vs. R2,760) on roll-forward and is based on 20x one-year forward EPS (up to Dec-16) of R140.